Magazine

Take The Money And Don't Run

June 19, 2005

When Congress passed the landmark Medicare drug law of 2003, lawmakers were worried sick that employers would dump millions of retirees onto the new federal insurance program. After all, why should companies keep paying for their retirees' prescription drugs when Uncle Sam was offering something similar? At stake: the tens of billions of dollars taxpayers would have to cough up if companies killed their own plans.

To persuade employers to hold on to their coverage when the new Medicare plan kicks in next January, Congress offered a hefty incentive: Keep your retiree drug coverage, lawmakers told companies, and Washington will subsidize at least 28% of your cost. The bounty will work out to an average of roughly $660 per retiree in 2006. As an added sweetener, the payments will be tax-free. The total value of the package will exceed $80 billion over the next decade.

Now decision time is at hand as employers put their 2006 benefit plans in place during the next month or so. Early indications are that the subsidy is working: Some two-thirds of employers that offer retiree drug benefits will continue to provide them next year, health consultants say. Because corporate policies are usually more generous than the new federal program, called Medicare Part D, that's good news for many of the 10 million or so retirees who now get coverage through their former employers. But the decision may be only temporary, say health experts who think most companies eventually will ditch the insurance. Says Edward A. Kaplan, national health practice leader at consultants Segal Group Inc.: "Most employers are looking to take the subsidy and are not looking to get out of retiree coverage -- yet."

Corporate America's plans suggest that, for once, Washington has succeeded in striking a delicate social policy balance. Had it set the subsidy too high, it would have wasted taxpayer money encouraging employers to keep programs they already planned to retain. But if Congress had skimped too much, the taxpayers might have gotten stuck with the tab for covering millions of newly dumped retirees.

Congress' dilemma was acute because employers have been dropping the coverage for years. Today only about one-quarter of all employers -- though about half of those with at least 1,000 workers -- offer retiree health insurance. And most cover drugs. But such insurance has been eroding steadily over the past decade in the face of nonstop cost hikes and accounting rules requiring companies to report long-term health-care liabilities to shareholders. Throughout the debate over the new Medicare drug program, Congress fretted that the new federal plan would exacerbate the trend.

"A NICE GIFT"

Even with the subsidy the new law provides, Washington will save money. For every retiree who signs up for Part D, taxpayers will shell out about $1,200 a year. So the feds are still ahead $540 if they pay $660 to an employer. The tax break will be worth an additional $231 a head for a company in the 35% tax bracket. But many employers have lower tax rates. Either way, taxpayers are better off if companies keep their retirees off the government plan.

One oddity of the new system is the windfall it will bring unionized employers. Because their retiree drug plans are typically part of a labor agreement, they can't be killed until the contract expires. Yet the companies get the subsidy nonetheless. Not only will that boost cash flow but it will also allow companies to reduce sharply the long-term medical liabilities that burden their financial statements. Take beleaguered General Motors Corp. (GM). At least until its labor contracts expire in 2007, the auto giant is on the hook to buy drug coverage for its 300,000 union retirees and surviving spouses. Throw in an additional 130,000 nonunion salaried retirees, and GM stands to pocket up to $300 million from the new federal subsidy next year by just doing what it has to do anyway. Says one health-care consultant: "If your benefits are collectively bargained, this is a nice gift."

TRICKY CALCULATIONS

Even if employers keep offering drug insurance, retirees will face a daunting decision about whether to accept it. The reason: While most corporate plans are more generous, some aren't. And plans that might be better for most of a company's retirees may be worse for some, such as heavy users of certain prescription drugs. As a result, retirees must soon sort through both Part D benefits and their company policy to see which best suits their own situation.

Despite Washington's apparent initial success in getting Corporate America to stay in the retiree drug insurance game, experts wonder how long the trend will last. For many employers, the decision may be more of a holding action than a signal of future intentions. Because Medicare Part D is a complex and untested program, there's much uncertainty about how well seniors will fare in the first years. So corporate human resources execs may be sitting tight to see what happens. Many are also uncertain how to integrate the new government benefit with their other retiree health insurance.

Indeed, some policy experts predict that most companies will eventually forgo Washington's money and kill their plans. Even with a 28% subsidy, employers still must come up with the remaining 72%, a sum that will continue to grow as drug prices soar. Within five years, most retiree drug insurance "is going to be Medicare; that's basically where we are headed," says Helen Darling, president of the National Business Group on Health in Washington. Still, for now, most employers plan to stay the course. The new scheme may be a valuable model for future health initiatives. And it's good news for employees and taxpayers alike.